Is San Francisco a challenge or opportunity for hotel investors?

There are many who would argue that San Francisco’s facing an image problem. Alan X. Reay, president of Newport Beach, Calif.-based Atlas Hospitality Group, which specializes in the sale of California hotels, would be one of them.

“The city has to completely change the perception of the rampant crime and homelessness,” he says. “It has been covered extensively in the press and on TV, and is a huge negative for tourism and, more so, for anyone planning a convention or meeting.”

Some might argue it’s a huge negative for current and would-be hotel investors as well. Trepp released a report in August that analyzed how San Francisco’s crime has impacted the city’s businesses and commercial real estate, hospitality included. The report notes that 90 percent of the city’s property crimes take place in Union Square, South of Market (SoMa), Fisherman’s Wharf and Japantown, in that order.

“Out of all the identified high-crime locations, more than 65.1 percent experienced stagnating business growth or even losses,” the report states. “This finding indicates that the majority of locations with declining businesses are surrounded by high-crime areas, emphasizing the detrimental effects of persistent crime on business vitality.”

The hotel sector is hit hard

San Francisco Travel estimates there will be 664,749 convention hotel nights booked in 2023, compared to 967,861 bookings in 2019. That number is expected to fall another 36 percent to 427,000 in 2024 as some conventions have moved away from San Francisco.

“While vagrancy and drug problems have surely dinted travel and tourism demand somewhat, business and conference travel has suffered the most,” says Stephen Buschbom, research director for Trepp. “If I were to define San Francisco in one word, I’d say ‘fragile.’”

Buschbom adds that vagrancy and perceived drug use does not account for the entire plunge in bookings. He believes other cities, such as Las Vegas, San Diego and Anaheim, Calif., have “capitalized on the situation and lured some business away from San Francisco.”

Reay notes a similar story plays out when analyzing other hotel stats.

“Most markets in California are above pre-COVID (2019) performance, but San Francisco RevPAR is still 15 percent below its 2019 numbers,” he says. “The city is also operating at 75 percent of pre-COVID booking levels, which is terrible. They have fallen way, way behind from when the city used to be the market leader.”

This downward momentum has sprung some hotel investors into action – or inaction, as it might be. Tom Baltimore, president and CEO of Park Hotels & Resorts, announced in an August (second-quarter) earnings call that the company would stop making debt service payments on its $725 million non-recourse CMBS loan secured by the 1,921-room Hilton San Francisco Union Square and the 1,024-room Parc 55 San Francisco, also in Union Square.

“I spend as much time in San Francisco as anybody and the key takeaways were that the recovery period there would be extended,” Baltimore said on the call. “We thought one to three years. I can tell you being on the ground as early as 10 days ago, it's probably five to seven years.”

More than 30 additional hotels also have loans coming due in the next two years, according to CoStar. Recent reports note the owners of the Westin St. Francis Hotel in Union Square have already applied to have the asset’s value decreased by 90 percent, from $787 million to $76 million.

The 203-room Yotel San Francisco in the Mid-Market district was acquired at a September 2022 auction by an affiliate of Monarch Alternative Capital for $62 million after its previous owner, Synapse Development Group, defaulted on $64.5 million in loans the previous March. 

Flynn Properties and Highgate Hotels submitted a nominal reserve bid of $29 million, per the San Francisco Business Times, at a foreclosure auction in March to take control of the 135-room Huntington Hotel in Nob Hill after Woodbridge Capital defaulted on its $56.2 million mortgage. The companies noted in a press release that they plan to “restore and elevate every aspect of the Huntington Hotel to the very highest standard, returning it to its original glory while reestablishing it as the single finest luxury hotel in San Francisco.”

And now for some good news

Flynn and Highgate aren’t the only investors with restoration on their minds. Oxford Hotels & Resorts is set to reopen four rebranded San Francisco hotels that have been shuttered since the pandemic. They include the 110-room Hotel Julian (formerly Hotel Vertigo) in Nob Hill, along with the 143-room SoMa House San Francisco (formerly the Americania Hotel), the 117-room Hotel Garrett (formerly the Good Hotel) and the 48-room Hotel Fiona (formerly the Carriage Inn Best Western) all in SoMa. All four are scheduled to reopen this fall.

KHP Capital Partners is also set to reopen the Le Meridian hotel, which it purchased from Park Hotels in 2021, this September. It will be rebranded as the Jay.

Ben Rowe, one of the company’s managing partners, notes the hotel’s Embarcadero location near the revitalized waterfront played a large role in the firm’s acquisition decision. This location also affords guests the ability to visit the dining, shopping and cultural opportunities provided by nearby Jackson Square, North Beach and Chinatown, Rowe adds.

“The Jay is ideally situated in the Embarcadero neighborhood, which is appealing to both business and leisure travelers,” he says. “The Le Meridien always did well with corporate travelers, but never focused on marketing to leisure guests…With its new lifestyle positioning, the Jay should be able to take full advantage of its proximity to attract leisure guests.”

Rowe further states that KHP is always looking for high-quality buildings in good locations where there are clear opportunities to create value through physical and operational improvements.

“We approached this investment clear eyed on the challenges that San Francisco faces, optimistic about the long-term resiliency of the market, and focused on the real upside via renovation and repositioning that this hotel offers,” he continues. “Often, the best buying opportunities can be found when markets are out of favor and the investor and media narrative becomes overly pessimistic. Over at least the last two decades, this has proven to be particularly true for San Francisco.”

Still, Rowe isn’t blind to the daily headlines. He adds that investors must remain realistic about how long it will take to fully overcome some of the city’s existing headwinds.

Buschbom believes some hotel investors will monitor their more optimistic counterparts to see how these newly rebranded properties are perceived – and how they perform.

“Going forward, the performance of these properties might be bellwether for other investors who are trying to gauge whether things are starting to turn around and if this is a decent entry point given how far property values have fallen,” he says.

Reay also sees many entities taking a wait-and-see approach. He thinks this game can come to a quick end if San Francisco can just do two things.

“Until you get rid of the crime and clean up on the homeless it is not going to improve, so the turnaround in the hotel market is related in a major way to those two factors,” he says. “If you can tell me how quickly the city will take care of this, I can give you an idea on how soon the market will turn.”

Of course, that’s easier said than done.